In a recent post from an online financial independence community someone was asking about how the federal EV (electric vehicle) tax credit works to “reduce the price” of new EVs. Officially known as the “Plug-In Electric Drive Vehicle Credit (IRC 30D)”, the way this works is that if you buy a new EV or PHEV (Plug-In Hybrid Electric Vehicle) with a large enough rechargeable battery (over 5 kWh) from a qualified manufacturer, you are able to claim a $7,500 tax credit for the tax year in which it was purchased. The math behind the credit amount is based on $2,500 + $417 + $417 for every kWh of battery capacity over 5 kWh, but really any new pure EVs are over the required 15 kWh battery anyways. Therefore, when talking about getting the credit for EVs, it is easier to just think of it as the entire possible $7,500 tax credit.
Now there are some stipulations with the vehicle and its manufacturer. To keep it simple, let’s use Nissan as an example. Let’s say that they cross the 200,000 eligible vehicles (namely the pure EV Nissan LEAF) sold in the first quarter of 2019. According to the IRS, the phase out period begins in the second calendar quarter after the 200,000th vehicle has been sold.
Q1 2019 – $7,500 (100%)
Q2 2019 – $7,500
Q3 2019 – $3,750 (50%)
Q4 2019 – $3,750
Q1 2020 – $1,875 (25%)
Q2 2020 – $1,875 (25%)
Q3 2020 and beyond – no tax credit available
Admittedly, all of the above information can be found at various places on the internet. However, when I was initially looking at purchasing an EV back in 2016 I couldn’t find anywhere that definitely told me how the tax credit would work in practice, with examples. Dealers just claimed that the purchase price was $7,500 less and left it up to the American consumer to figure out how the tax credit could work for them, if at all.
Now armed with a basic understanding of how income taxes work in America, I think I can shed some light on this situation.
At its core – without factoring in curveballs like dividends, interest, capital losses – figuring out your taxes is as simple as:
- Gross Salary – Tax-Deferred Contributions (401k, HSA, Pension, etc.) = Total Salary
- (for this specific case) Total Salary = Total Income = Adjusted Gross Income (AGI)
- Adjusted Gross Income – Deductions = Taxable Income
- Plug Taxable Income into our tax brackets (use an online calculator) to get Tax Due Before Credits
- Tax Due Before Credits – Tax Credits = Tax Liability
- Tax Liability – Tax Withheld / Paid = Tax Due or Refund Due (depending on whether the credits used in Step #5 are refundable or not – to be clear, the EV tax credit is NOT)
With that in mind, let’s dive right into two quick scenarios here.
Single Filer, No Children
John makes $64,500 in AGI. The standard deduction in for single filers in 2018 is $12,000, so we subtract that from John’s AGI to get his Taxable Income, which is $52,500. Plugging this number into a tax calculator, this gets us exactly $7,500 in tax due. Hypothetically let’s say it is January 1st, 2018 and John decides that he wants to pick up a brand new 2018 Nissan Leaf SV, which retails in his area for $32,000.
Let’s say that prior to this purchase, he has his W-4 set so that he withholds exactly enough to cover his federal tax liability for the year – $7,500. Once this purchase is made (only after verifying that said vehicle does indeed qualify for the entire tax credit in the quarter in which he purchased it) he makes a change on his W-4 form with his employer to withhold $0 in federal tax from his paychecks for the entire year. John is now getting that extra $7,500 in his paychecks for the year (albeit split evenly between all of his paychecks for the year) and can use it to pay down the principal on the car or do whatever he wants with it.
Married Filing Jointly, No Children
Tom and Mary make a combined AGI of $89,675. The standard deduction in 2018 for married filing jointly in 2018 is $24,000, so we subtract that from their AGI to get their Taxable Income, which is $65,675. Plugging this number into a tax calculator (be sure to change the tax filing status appropriately), this gets us exactly $7,500 in tax due.
Tom & Mary can then use the same steps that John took above to buy an eligible EV and adjust their W-4s accordingly to take full advantage of the credit.
Obviously, those are two very specific scenarios that use numbers and concepts that I can imagine aren’t household terms for most Americans. Also, the waters get muddier when you factor in claiming tax credits for dependent children ($2,000 credit per child!) and other such things. Some parting notes:
- Based on the scenarios above, in order to take full advantage of the federal EV tax credit, a single file’s AGI would need to be over $64,500 and married joint filers would need to have AGI over $89,875.
- Remember that your AGI is your salary after you take away any contributions to retirement / other tax-deferred accounts – if you contribute at all to a 401k / 403b (which you absolutely should if you can!) then your AGI is going to be vastly different from your gross salary.
- You can see how close various manufacturers are to the 200,000 limit here.
- You can see the maximum credits for various PHEVS and EVs here.
- You should never actually buy a car new! Depreciation is insane!